Hi All
Okay, here is my question.
If you happen to own hundreds of investment properties, how do you protect yourself from rising interest rates? What do you do if the interest rate rises above the rent you receive? Is the way to protect from this by fixing the term and, if so, how long do you do it for? I would be interested in hearing how the experienced property investors minimise their risk.
Cheers
Leilah
This is another fear experienced by all new investors.
Fixing rates is the obvios answer and many people fix for the first 3-5 years. After that rising rents will help with any interest rises.
Many, probably most, choose variable rates and factor in a rise or two in their calculations. Rate rises aren't the end of the world. Noone expects them to rise to the levels of the 80's. It would mean repossions all over places like Sydney and Perth!!
Cheers,
Fixing the interest rate fixes your costs. So if you look at it this way it doesn't hurt so much if interest rates go down.
I think that you should look at the trend of interest rate alterations. At the moment the trend is for rates to go up so fixing is a good idea. If the trend was down then fixing is not so important.I myself have a low debt amount and could pay it off tomorrow if interest rates climb to much.
Factoring in rate rises to you numbers before you buy will cushion the blow of every rate rise that occurs. If you only ever buy cashflow positive or neutral properties (harder to do these days) and keep practicing active debt reduction as you go, you are covering any risk or impact of rate rises.
Also, the interest on your I.P is tax deductible, so the effect of a small rate rise is less dramatic anyway.The other thing to do is lock in the rates as long as possible if you are worried.
I recently bought 3 investment properties early this year. However i bought them because of an arbitrage situation where i basically make a nearly guaranteed minimum return of 20% p.a return on investment. In a nut shell, CBD melbourne residential property was in a pretty bad slump after 2003, with everyone including banks shunning the area because of over supply. However this also presents opportunities. Earlier this year i noticed rents increasing dramatically as supply had dried up and vacancies were under 1%. All properties purchased had a car park (which can be rare now in the CBD areas and were bigger than standard size). Each is renting for 7.5 to 8% gross return. To hedge my risk i put in 25% of my own money, left 25% on a variable, but FIXED 50% for 10 years on a rate of 7.18%. This left my exposure at only 25% (the variable portion).
Property expenses will take out around 2% of the value of the property leaving a net rental return of say 5.7% of the property value. On 75% leveraging the debt % is around 5.4% (75% of 7.2% average interest rate) with only one third of the debt being exposed to possible future interest rate rises. Thus the property financing will just about break even BEFORE any tax adjustments.I am not saying this to boast, but rather to show some of my fellow investors and investors to be, that if you want to go into property investing you need to treat it like a business. Dont just buy and finance based on current market conditions. Make sure you have an action plan to hedge your risks against unforeseen circumstances.
dont want to sound like a scare monger, but i think you need to be VERY careful at the moment. Especially if applying for lo doc loans. With the current sub prime mortgage crisis you could find yourself in a LOT of TROUBLE in the months to come. One hypothetical situation (and yes at the moment its only hypothetical) is that if the current credit crunch continues you may suffer from two problems:
1) If you are on a variable loan, you might find your interest rate skyrockets, the reason being that even if official interest rates stay low, if investors of securities mortgages become risk averse, they will only buy the securities paper if it has a VERY GOOD YIELD to compensate them for the risk. This means that the numberous lenders out there will be forced to charge higher interest rates in order to securitise their loan. Most of the non-bank lenders securitise loans, they dont keep them on their own balance sheets. In simple terms they issue you with the loan then on sell that loan. If this occurs then even loans with the big banks will increase as they will be able to increase their margins.
2) If you try to offload your property you may find you are trying to sell into a depressed market (when other people are trying desperately to sell as well), thus you may incur a massive capital loss.Just a note to be careful and FULLY UNDERSTAND what you are doing and have some form of insurance plan. For example if net rents are 8% and i can borrow on a fixed rate for 7.5% fixed for 10 years. Then the cash flow will sustain the loan and the rate is fixed so i am not exposed to interest rate risk.
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